The Reserve Bank of India on Tuesday pegged the inflation at around 5 per cent for the year 2004-05 and underlined the need to keep a close watch on the inflationary situation.

"Given the 'pass through' of international price trends to domestic inflation, the inflation rate during 2004-05 is likely to be influenced to a significant extent by international oil prices and trends in commodity prices," RBI said in the annual policy statement for FY05.

In addition, the lagged effect of persistence of excess liquidity on aggregate demand could not be ignored as it could have some inflationary impact, it said.

• The Monetary and Credit Policy 2004-2005

In view of the current trends, assuming no significant supply shocks and appropriate management of liquidity, the inflation rate in the current fiscal, on a point-to-point basis, might be placed at around 5 per cent.

There was a need to consolidate the gains obtained in recent years from reining in inflationary expectations given the volatility in the inflation rate during 2003-04, it said.

Sustained efforts over time helped to build confidence in price stability and inflationary expectations could turn adverse in a relatively short time if noticeable adverse movements in prices took place.

"While the economy has the resources and resilience to withstand supply shocks, the possible consequences of continued abundance of liquidity need to be monitored closely.

"As such, inflationary situation needs to be watched closely and there could be no room for complacency on this count," it added.